Back in the 1960s and 1970s, a few major companies took out oil exploration concessions there from the government of South Africa. In 1974, Shell (NYSE: RDS.A / RDS.B) discovered a gas field off the southwest coast with the Kudu project. Early estimates were 1 trillion cubic feet of reserves, but current estimates range up to 10 trillion. Kudu was big, but nobody much cared about natural gas back then. Gas was too cheap, and southern Africa was too far away.

There was hardly any development around Kudu for the next 20 years. South Africa was under international sanctions due to its apartheid regime, so oil companies and other outside investment stayed away. Almost nothing happened with energy development until Namibia became independent in 1990.

By the early 1990s, the gas field at Kudu intrigued foreign oil companies. Kudu showed a large hydrocarbon resource. Clearly, there was significant potential. But nobody really understood the offshore geology. Plus, back then, it was tough to drill in water more than about 1,500 feet deep. Namibia didn’t make for an investment magnet.

But with the recent success of offshore Brazil, the energy exploration expectations of the world have been fundamentally altered. The same brilliant researchers and scientists that discovered the potential of Brazil’s Tupi field are now doing extensive research in offshore West Africa, in particular offshore Namibia. One researcher I’ve been following very closely believes the offshore areas of Namibia are ‘geologic analogues’ to Brazil.

Source: The Next Great Oil Frontier

If you’re looking for the next “Big Oil” play, bet on Beijing.  As we’ve been reporting for the past several years, China has been on a global commodities shopping spree, which includes locking up every source of oil that it can.

The Red Dragon has cut deals in Africa, South America Russia and the Middle East – and won’t stop there. Even the mainstream news media is finally becoming aware of this crucial trend.

But here’s the thing. It’s not enough just to know that this is happening. In order to profit, an investor really needs to understand why it’s happening – and to invest accordingly. Investors who lack this insight may make the strategic misstep of betting heavily (or exclusively) on the Western heavyweights – Exxon Mobil Corp. (NYSE: XOM), BP PLC (NYSE ADR: BP) or Royal Dutch Shell (NYSE ADR: RDS.A, RDS.B) – while ignoring the oil sector’s real growth story, which is China.

Just this year alone:

• China and Russia have signed a multi-billion-dollar, intergovernmental agreement to construct an oil line from Russia that will supply oil directly to China. Actually seven agreements in one, the terms depict a deal worth trillions of dollars – including a 20-year oil contract to pump Russian oil to the Chinese market. In return, China has agreed to provide a total of $25 billion in loansto Russian oil companies Transneft and OAO Rosneft Oil Co. China even gets a cut of Rosneft’s production, as part of the deal.
• In Africa, China’s CNOOC Ltd. (NYSE ADR: CEO) and Sinopec Shanghai Petrochemical Co. (NYSE ADR: SHI) are teaming up to buy a $1.3 billion stake in Angolan offshore development rights from U.S.-based Marathon Oil Corp. (NYSE: MRO). A key point of note: Angola – historically one of Exxon’s favorite investment targets – has recently overtaken Nigeria as Africa’s biggest oil producer.
• While noting that it’s hardly a done deal, The Wall Street Journaldid report earlier this month that China National Petroleum Corp. (CNPC) is interested in buying all or a part of Argentina’s YPF SA (NYSE ADR: YPF) for $14.5 billion.
• In Africa, China’s CNOOC Ltd. (NYSE ADR: CEO) and Sinopec Shanghai Petrochemical Co. (NYSE ADR: SHI) are teaming up to buy a $1.3 billion stake in Angolan offshore development rights from U.S.-based Marathon Oil Corp. (NYSE: MRO). A key point of note: Angola – historically one of Exxon’s favorite investment targets – has recently overtaken Nigeria as Africa’s biggest oil producer.
• Reports continue to circulate that CNPC will be taking the majority stake in Iraq’s Rumaila oilfield from BP. Rumaila is Iraq’s biggest oil field, producing more than a million barrels of crude oil per day.
• And China has become quite chummy with Brazil’s Petroleo Brasileiro (NYSE ADR: PBR). Petrobras is developing a huge new offshore field – one of the biggest new discoveries in decades, in fact – and any deal would include a production-supply agreement.

This flurry of deals hasn’t been a surprise to Money Morning readers. Even so, it’s worth taking a moment to look at some of the key catalysts behind many of these deals. Let’s look at the Top Three:

• Nervous Reserves: China is sitting on the world’s largest pile of cash – more than $2.3 trillion by some estimates. With an estimated 70% of that, or about $1.61 trillion, in U.S. dollars, there is no question it’s a huge source of financial firepower strength at a time when global markets are uncertain, if not downright weak. But it’s also a liability, too, in that China can’t diminish its high-concentration of greenback holdings without pushing the dollar off a cliff. So buying oil is a great way for China to diversify its reserves without kneecapping poor old Uncle Sam.
• Those Not-So-Free “Free” Markets: China has less faith in the “free” markets than the West does. Ironically, the United States and other Western powers are partly to blame for Beijing’s free-market skepticism. For instance, not only did the United Statesslam the door in China’s face when China tried to buy Unocal Corp. [now a part of Chevron Corp. (NYSE: CVX)]  a few years back, but when former U.S. President George W. Bush invaded Iraq, the war summarily cut off China’s ability to source oil from that Middle East member of the OPEC 12 (the Organization of the Oil Producing and Exporting Countries). Prior to the invasion, Beijing really didn’t consider the need to diversify China’s foreign-oil sources so our military action prompted their economic reaction. Now the genie’s out of the bottle.
• Peerless Perspective: China’s leaders know that they must lock up oil supplies at a time when the Western world can’t seemingly be bothered to understand that this is a zero-sum game. In other words, China views the global financial crisis as an opportunity to be exploited for economic gain and the security of its people, not as a problem to be solved. China understands the big picture, and even though we apparently painted it, the West doesn’t.  By scouring the earth for oil at a time when the West is hamstrung by the global financial crisis, not only is China able to strike more favorable deals at more favorable prices, but it’s locking up huge supplies of commodities for its own use for years, even decades, to come. In doing so – and this is the part of the equation so many experts don’t get – these resources are no longer available for our use here in the United States, which has major supply and pricing implications for this market.

Bamboozled by the Western media – which has perpetuated the “global-recession-means-lower-demand” story – it simply hasn’t dawned on most people here in the West that China doesn’t care about the majorlong-term impact this global buying spree will have on our economy.
Besides, this whole story thesis is flat out wrong. While the recession is definitely dampening our use of oil and gasoline, China’s oil demand is growing by more than 20% a year. And of the 8 million barrels a day that China already uses, half comes from imports. Beijing sees those as troubling statistics, which means that China:

• Absolutely must lock up as many significant external supplies oil as possible right now.
• And must accelerate its domestic exploration-and-processing efforts at warp speed.

Nor is this a static situation. China’s auto market is growing by 50% a year. It’s already the world’s largest, having passed the United States earlier this year. In fact, according to some estimates, China will have more cars on its roads in the next 20 years than all those we currently have in this country – even if you include the engine-less “restoration project” your next-door neighbor’s son has sitting under an oak tree in their back yard.

China’s never known high prices and its consumers haven’t either. So they don’t care like we do about what “price” is posted at the pump. Sure, you can argue as many Western analysts do, that China’s fuel is highly subsidized, but so what? That’s a moot point. Consumers who remember what it was like back when gasoline was 99 cents a gallon aren’t going to grouse about how it now costs $6 a gallon – these newly minted motorists will merely see gasoline as just part of the cost of having a car.

Because it understands its need for continual economic progress – as well as the role oil has to play to make that a reality – China is doing whatever it takes to guarantee future supplies, including structuring deals in ways that have caught Western companies by surprise. For instance, China’s companies are looking at how they can get a deal done by giving the other party something it actually needs. Moreover, in a move that’s as frustrating to Western leaders as it is surprising, many of these deals come with no strings attached. I suppose you could call it the “Red Dragon Option” – although Western firms would do well to embrace these as potential Harvard Business Review case studies.

After reading this overview, a U.S investor might want to conclude that China’s already got this one wrapped up and that “any resistance is futile.” But that’s not necessarily true. While China’s grown by leaps and bounds in terms of its financial sophistication when it comes to these deals, the country still lacks the relative exploration-and-production technology to go after the deep-water reserves and complicated fields where most of the still-undiscovered oil remains. Those are also the same kinds of locations where natural gas may be the better bet.

And that suggests that investments in both sectors – including deep-water drillers and companies that specialize in natural-gas liquification -may pay off for investors anxious to dine with the Red Dragon, instead of being listed as an entrée on the menu.

Source: Three Reasons China is Positioned to be the Oil Sector’s Next Big Profit Play

[Editor's Note: The global economic recovery will create an estimated $300 trillion worth of global-investing-profit opportunities. To find out how to capitalize and profit, you just need to know where to look.

]]> http://www.contrarianprofits.com/articles/three-reasons-china-is-positioned-to-be-the-oil-sector%e2%80%99s-next-big-profit-play/19976/feed 0 http://www.contrarianprofits.com/articles/global-slowdown-and-plunging-profits-have-big-oil-companies-searching-for-ways-to-rebound/19596 http://www.contrarianprofits.com/articles/global-slowdown-and-plunging-profits-have-big-oil-companies-searching-for-ways-to-rebound/19596#comments Fri, 31 Jul 2009 22:10:08 +0000 Bob Blandeburgo http://www.contrarianprofits.com/?p=19596 In late January, Exxon Mobil Corp. (NYSE: XOM), the world’s most ubiquitous oil giant, capped off a whipsaw year in the global oil markets by reporting net income of $45.2 billion, an all-time record for corporate profits that shattered the former record it had set a year before.

The number was so big and the results beat Wall Street estimates by so much at a time when the credit crisis was wreaking havoc on so many other sectors that Oppenheimer & Sons (NYSE: OPY) oil analyst Fadel Gheit couldn’t help but quip that he didn’t think Exxon “will be lining up for any TARP money or government handout anytime soon.”

Exxon wasn’t the only heavyweight reaping the benefit of a zooming energy market…

• A federal judge gave no leniency to convicted Ponzi schemer Bernie Madoff yesterday (Monday), sentencing him to 150 years in prison. U.S. District Judge Denny Chin described Madoff’s crime as “extraordinarily evil” and said that it was “not merely a bloodless crime that takes place on paper but one that takes a staggering human toll.” As a part of his sentence, the 71-year-old Madoff was ordered to forfeit a total of $170.8 billion which represents the total proceeds of and property involved in certain of his crimes.

• Pipeline operator Enterprise Products Partners L.P. (NYSE: EPD) will buy Teppco Partners L.P. (NYSE: TPP) for $3.3 billion, forming the biggest U.S. energy partnership, Bloomberg News reported. Teppco shareholders will get 1.24 units of Enterprise for each one they own, making the deal worth 15% more than when the initial offer was made in March. Enterprise will see the benefits of the takeover starting next year and will net a minimum of $20 million in cost savings, according to Enterprise Chief Executive Officer Michael Creel.

• Apple Inc. (Nasdaq: AAPL) Chief Executive Officer Steve Jobs returned to work as promised following a near six-month leave of absence in which he received a liver transplant. Initially, Jobs will spend a few days a week at Apple’s Cupertino, Calif. Headquarters and work the other days from home. Investors will be reassured that Jobs is back, Collins Steward Ashok Kumar told Reuters. “In many ways he’s irreplaceable,” Kumar said. “Having him back brings the halo back to the company.” Apple shares closed at $141.97 yesterday (Monday), down 0.33%.

• General Motors Corp. (OTC: GMGMQ) cut its ties to a northern California auto plant it operated with Toyota Motor Corp. (NYSE ADR: TM) since 1983, Reuters reported. The move puts into question the fate of more than 4,000 jobs at the plant that was once seen as a ground-breaking experiment in bringing production efficiencies pioneered in Japan to a U.S. workforce. “While we respect this decision by GM, the economic and business environment surrounding Toyota is also extremely severe, and so this decision by GM makes the situation even more difficult for Toyota,” Toyota said in a statement. The soon-to-be defunct Pontiac Vibe, Toyota Corolla and Matrix are manufactured at the facility.

• The U.S. Interior Department yesterday (Monday) designated roughly 670,000 acres of land as potential areas for solar energy production with the hope it will speed up the development of renewable energy resources on federal lands. “This environmentally sensitive plan will identify appropriate Interior-managed lands that have excellent solar energy potential and limited conflicts with wildlife, other natural resources or land users,” Interior Secretary Ken Salazar said in a statement. The 24 areas on the land could generate nearly 100,000 megawatts of solar electricity, the DOI said. President Barack Obama has allocated $150 billion to renewable energy investment over the next 10 years.

• Oil for August delivery rose to $2.33 to settle at $71.49 a barrel after China said it would increase oil reserves and Nigerian militants partly shut down an offshore oil platform that belongs toRoyal Dutch Shell plc (ADR NYSE: RDS.A, RDS.B), The Associated Press reports. China plans on increasing its strategic crude oil reserves by 60%, providing the market with some long-term support according to Alaron Trading Corp. analyst Phil Flynn.

• The Chinese government has stopped its metal stockpiling program, a top official told state-run Caijing Magazine. China has so far amassed 590,000 metric tons of aluminum, 159,000 tons of zinc and 235,000 tons of copper. The news could push down prices of metal in the near-term, though a stimulus-driven revival in demand could limit the fall, the report said.

Source: Investment News Briefs Tuesday, June 30, 2009

However, traders were also reacting to the weaker-than-expected inventory report from Wednesday, and to further violence in Nigeria.

The Movement for the Emancipation of the Niger Delta, or MEND, claimed responsibility yesterday for a predawn attack against Royal Dutch Shell (NYSE:RDS.A/RDS.B) facilities, calling it a warning to Russia not to invest in the African country’s oil and gas industry, according to Dow Jones Newswires.

The attack on the Bille-Krakama pipeline, which feeds the key Bonny export terminal in southern Rivers State, was carried out to coincide with a visit to Nigeria by Russian President Dmitry Medvedevk, MEND reportedly said.

Source: Crude Pushes Higher

“Last week’s drop in gasoline prices is also having an impact [on crude],” said Kevin Kerr, president of Kerr Trading International. “If we see the dollar be able to hold support here, we may see oil prices weaken further, [but] of course the opposite is true should the dollar fall apart.”

This could be the beginning of the pullback many have been calling for, for quite some time. “The outlook remains challenging in light of weak demand and high spare production capacity,” wrote analysts at Credit Suisse.

On the supply front, over the weekend Nigerian rebels from the Movement for the Emancipation of the Niger Delta claimed they staged three attacks against facilities of Royal Dutch Shell (NYSE:RDS.A/RDS.B). However, a Shell spokesman confirmed only two attacks and said that production was not seriously affected.

Source: Crude Falls

Much of Brazil’s South Atlantic development will require drilling wells in waters up to two miles deep, through four-five miles of rock beneath the seabed. The prize at the end will be oil deposits with reserves estimated in the tens of billions of barrels. With access to this offshore bounty, Brazil expects to take its place among the first ranks of energy-producing nations in the world.

Brazil’s state-controlled national oil company (NOC), Petroleo Brasileiro SA (NYSE:PBR) plans to spend over $175 billion in the next five years just on offshore development. The immense investment involves buying and building dozens of new drill ships and seagoing platforms, along with many dozens more support and servicing vessels. Petrobras will lay thousands of miles of pipelines on the seafloor, connecting massive complexes of subsea equipment that will sit atop hundreds of oil wells.

To finance much of this development, Brazil has turned to China. With the active support of the Chinese government, many Chinese banks are lining up to extend loans to Brazil’s energy sector. Right now, there is an agreement for a Chinese consortium to lend Petrobras $10 billion. In exchange, Petrobras will eventually ship 200,000 barrels of oil per day to Chinese refineries. There are more such long-term finance supply deals in the works.

The Chinese government has established strategic guidelines for its national firms. That is, the Chinese government has set goals for Chinese firms to supply China’s long-term needs for energy and other natural resources. The Chinese are looking well ahead into the rest of this century, and even into the 22nd century. They want to ensure their future access to a diverse global supply chain, as well as win entrée into resource-rich regions of the world for Chinese industries and support firms.

Why are the Chinese receiving such a warm welcome in Brazil? According to Sergio Gabrielli, CEO of Petrobras, “The U.S. has a problem. There isn’t someone in the U.S. government that we can sit down with and have the kinds of discussions we’re having with the Chinese.”

In other words, there is a new geopolitics of oil at work. In the olden days, it would have been large international oil companies (IOCs) like Exxon Mobil (NYSE:XOM), Shell (NYSE:RDS.A / RDS.B) and BP walking into a room to meet with the Brazilians. The IOCs were the only game in town. They controlled the financing and the technology for large developments.

But today, the biggest deals begin with a political understanding at the top, hammered out between the highest levels of the respective governments. This top-down political deal making cuts out the IOCs, except where they have technical expertise that can be hired on a contract basis.

In essence, we are witnessing the end of the post-World War II economic construct of the world’s financial system. That construct always had a Western bias. But the 2008 crash of the Western business and financial model has changed everything. It has left a barren worldwide financial landscape for large development projects. Most traditional Western financing is simply not available for large projects. And as French author Francois Rabelais (1494-1553) once noted, “Nature abhors a vacuum.”

Thus has the Western financial crisis handed well-capitalized, government-backed Chinese banks and industrial firms an unmatched competitive advantage. With the traditional credit markets dry, Chinese banks have transformed into key lenders for the resource developments that will fuel the next generation of humanity. Indeed, for now, the Chinese are the world’s ONLY lenders for large resource development projects. See Brazil, Exhibit 1.

China’s Rare Earths Monopoly – All But Insurmountable

China’s support for Brazilian energy development is not the only angle that the Chinese government is pursuing for its future gain. China’s large reserves of foreign exchange, as well as its national strategic focus, has enabled incomparable – even insurmountable – progress for the Middle Kingdom to corner the world supply of substances called rare earths. Here’s the production chart for the past half century. Obviously, something is going on here.

Now that we’ve seen this chart, the questions arise: What are rare earths? And why are they important?

Rare earths are the 15 elements within the lanthanide series of the periodic table, plus the elements yttrium and scandium. The best known are lanthanum, cerium, neodymium, praseodymium, gadolinium, europium and samarium.

Here’s why rare earths are important. They’re used in a wide range of industrial and electronic applications. For many years, large amounts of lanthanum and cerium have been used in petroleum refining, with the result of increasing yields from each barrel of oil by about 10% while extending the life of other expensive catalysts like platinum. And rare earths find their way into myriad other applications, from aerospace super-alloys to rechargeable cell phone batteries.

More recently, large volumes of rare earths (especially neodymium) have gone into magnets. In fact, rare earths are a key component in strong, permanent magnets. It’s not those cute little refrigerator magnets; your computer contains a number of tiny magnets in its hard drive. If there are no permanent magnets, there are no computers. Or DVDs or DVRs or iPods, etc. Say farewell to your wired way of life.

And then there are the giant 1-ton magnets used in large windmill assemblies. Each windmill magnet is about the size of a car engine and uses 560 pounds of neodymium. The implication is that if the U.S. wants to erect windmills to generate electricity, the nation is making a long-term commitment to buy and use unprecedented amounts of neodymium. And there are NO substitutes. For just this one “clean energy” application, large amounts of rare earths – and the ores and mines to produce them – are essential.

There are many other clean-energy applications for rare earths as well, particularly in the now forming electric car industry. Neodymium magnets are key components in electric motors and regenerative braking systems used in hybrid vehicles. Without these magnets, no electric cars will ever roll off an assembly line, let alone whiz down an American highway.

Another significant demand for rare earths will come from large rechargeable batteries for electric cars. Nickel-metal hydride (NiMH) rechargeable batteries, for example, contain cerium and lanthanum in a form called “mischmetal.” And right now, NiMH batteries are the battery of choice for many hybrid vehicles. Overall, a typical hybrid electric vehicle can use about 50 pounds of rare earths – between the rechargeable battery pack, the permanent magnet motor and regenerative braking system. (Plus other tiny magnets for the sound system, power windows, power seats, windshield wipers, etc.)

So clearly, demand for rare earths is set to skyrocket. Just clean energy applications will drive unheralded demand for metals of which most investors – let alone consumers – have never heard.

It’s also important to keep in mind that almost none of the rare earths used in large power systems (like windmills) or electric vehicles (such as with NiMH batteries) are currently being recycled. The long lifetimes of the magnets and batteries, coupled with the lack of recycling technologies and dedicated facilities, means that any increase in supply can only come from new mining.

Another factor is that there appears to be an official Chinese policy to slow down export of rare earths. Chinese exports have decreased by 8% or so each of the past three years. Chinese suppliers have placed foreign customers on allocation, at reduced quantities from years past. The Chinese explain that they have closed mines for environmental reasons. Yet the Chinese also promise adequate supplies of rare earths if foreign users will move their industrial facilities into China.

According to Yoichi Sato, head of the Rare Earths Department of Japan’s Mitsui Industries, China is displaying its long-term strategy toward these critical elements. Mr. Sato believes that China is playing a complex game with the world’s rare earth consumers.

First, China is restricting rare earths exports, to provide its own high-tech industries with the chance to flourish and gain a competitive edge over rivals in Asia, Europe and the U.S. And second, it will force many foreign firms to move their high-tech factories and research centers to China to circumvent quotas. China, to be sure, has a small army of highly capable scientists and engineers who focus on rare earths applications – over 15,000 Ph.D.-level individuals, by one count.

Mitsui’s Mr. Sato believes that China will use its existing monopoly status in rare earths production to crush any competition that emerges. While about 42% of worldwide rare earths resources are outside China, there are NO non-Chinese sites with any significant processing or refining capacity. In the game of rare earths, China holds almost all of the cards.

Mr. Sato has stated, “Many people are looking at establishing alternative refineries and sources outside China, but the investment is not necessarily a sound one because of the threat of price revenge by China. If new projects emerge, as they have recently in Malaysia and Australia, China could just drop its prices and force rivals out of business.”

And as if on cue, in April 2009, Chinese firms used their financial muscle to buy large stakes in potential foreign rivals in Malaysia and Australia.

I hope that you now understand the importance of rare earths to the 21st-century economy of the West, particularly to the energy future of the U.S. I’m following this situation very closely. There ARE some potential investment opportunities in rare earths, but only in very small, thinly capitalized firms.

Until we meet again,
Byron King

Source: Brazil’s National Commitment to Energy – Bankrolled by China

And that suggests higher oil and gasoline prices in coming months – perhaps as much as 50% – 70% higher, or more – particularly if a U.S. economic recovery is truly in the offing.

To really see what I’m talking about, let’s start with a close look at consumption. I’m asked about this frequently in my global wanderings, most recently at the Las Vegas Money Show last week.

For months we’ve been hearing about a drop in global demand. It’s a popular story and one that sounds credible: After all, it seems logical to assume that during economic chaos, consumers and businesses alike will rethink their budgets and ratchet back their spending.

For consumers, the continued economic malaise will mean fewer trips to the store, less-ambitious vacations, and car-pooling to school or work . For businesses, the cutbacks by consumers will clearly translate into canceling trips where conference calls will suffice and using lower-cost shipping alternatives for the decreased sales volumes most U.S. companies will experience.

According to the U.S. Energy Information Administration, oil consumption fell by nearly 50,000 barrels a day throughout 2008. According to the latest figures, the EIA suggests that global oil demand may slump to 83.4 million barrels a day in 2009 – nearly 2.4 million barrels below 2008 consumption levels. On a percentage basis, that’s almost a 3% drop. I have my doubts that we’ll actually see a decline of this magnitude, but if it does occur, it will be the first time ever that consumption has declined for two straight years. That alone is pretty noteworthy in this era of cohesive and powerful global growth.

The reason I have my doubts about such a steep decline in demand is this: While overall consumption is dropping in such developed economies as the United States, Europe and Australia, it’s being at least partially offset by continued growth in China, the Middle East and Latin America. Because the data produced there is less than transparent, I can’t help but think that analysts are underestimating the growth we’ll be seeing in those markets, where consumption is accelerating strongly. And it’s entirely possible that growth in those markets will outstrip any fall here in the developed world.

Even if the growth in the emerging markets doesn’t quite offset the decline in their developed brethren, analysts seem to be forgetting that oil prices are a function of two variables – consumption and production. And it’s the change in production that’s going to catch a lot of people by surprise.

After a run of record high oil prices punctuated by frantic resources development, we’re now seeing the opposite scenario. The long period of lower than anticipated oil prices following oil’s meteoric rise last year means that the entire industry is no longer making the investments needed to sustain production capacity or actual production.

And not many folks recognize this fact.

For instance, direct project investment in drilling may be down as much as 20%, while the number of drill rigs in operation in America alone has dropped by more than 40%. Various estimates from the EIA and private sources suggest that actual U.S. production may fall by as much as 320,000 barrels a day. While the amount is a matter of debate, the fact that production is declining is not.

More than 20% of total U.S. oil production comes from tiny wells located in remote areas that were marginally profitable producers when crude oil was trading at $100 a barrel. With oil currently at about $61 a barrel, those producers are practically worthless now.  So the “mom-and-pop” shops that own them are actually abandoning entire fields and equipment without a moment’s thought.

To be fair, at least part of the drop in demand can be attributed to increased reliance on methanol, ethanol and other types of biofuel, but that’s hard to quantify at the moment because the long period of low oil prices has eroded the economic viability of alternative fuels – at least for now.

The story is much the same with new exploration projects being cancelled left, right and center. The trend is particularly apparent in the Canadian oil sands that were everybody’s fancy only 24 months ago. Now we’re seeing Royal Dutch Shell PLC (NYSE ADR: RDS.A, RDS.B), StatoilHydro ASA (NYSE ADR: STO) and Petro-Canada USA (NYSE: PCZ) each backing away from multi-million dollar investments that were to bring online an estimated 500,000 barrels a day.

Russian, Saudi and Mexican producers are reporting the biggest production drops seen in 50 years. Even Venezuelan leader President Hugo Chavez – the perennial motor mouth and longtime U.S. critic – is eating crow. He’s begrudgingly invited (read that to mean “is begging”) the oil companies whose assets he nationalized only a year ago to “come back” into the market.

He has no choice. Venezuela’s oil production is already below its 1997 levels, and many analysts say that output could fall even more since Chavez has done such a thorough job of alienating the big foreign oil companies that actually possess the technology needed to extract crude oil from that country’s hard-to-reach reserves.

Chavez’s Chavez’s government seized the assets of 60 foreign and domestic oil service companies after conflict erupted over nearly $14 billion in debt owed by the country’s state-owned energy company, Petroleos de Venezuela (PDVSA). PDVSA accumulated the debt as oil prices took a dramatic slide from over $147 a barrel last July to less than $35 a barrel in February.

Then there’s simple shrinkage. This is an oil industry term for declining output. The EIA recently released data suggesting that production at more than 800 oil fields around the world is going to decline by about 9.1%. It doesn’t matter whether the decline is prompted by depletion, war, or simple neglect. The fact is that this shrinkage will take an estimated 7.6 million barrels per day out of the system.

I could go on but I think you get the picture.

Now imagine what could happen to oil-and-gasoline prices when normalized demand resumes. Not only will there be less oil in storage, but virtually the entire industry – exploration, production, refining and sales – is going to be caught sitting on its heels when the world needs it to be zooming along in high gear. And that means the companies that make up this industry will have to ramp up again to meet the newly increased consumption demands.

This whole process could take two years – or even longer – to play out.

As for prices, history is replete with examples of what happens when there are major shortages of key commodities.

In the Energy Crisis of 1973-74, for example, I can still remember the numbingly long gas lines and waiting in the car for hours to get a fill-up. My father and grandfather vividly remember that prices quadrupled in a matter of months. I’m sure you do, too.

Only a few years later, in 1979, we got another oil shock when prices quadrupled again. Because it was coupled with stagnant economic growth and virulent inflation (stagflation), this period was an economic disaster for the United States.

For those who had learned from the earlier crisis, however, it was a mondo- profit opportunity.

The same can be said for 2007-2008, when the huge spike in oil prices that I predicted contributed to the bear market in stocks, tight credit and recessionary conditions that led to the current malaise that continues to grip the U.S. economy. As much as anything else, high oil prices contributed to the carnage we’ve seen in the auto-making and airline industries, and to the financial crisis that started here before spanning the globe.

Which brings us full circle.

Many investors will refuse to believe we’ve arrived at this new energy nexus, especially given all the hype we’ve seen surrounding alternative fuels, hybrid vehicles and the new “green” mentality that’s taken hold here in this country. If you listen to some of the real believers, they’ll tell you that we could be living in a petroleum-free Nirvana – as early as tomorrow.

While I personally would like that, too, it’s a misleading argument if for no other reason than there are millions of consumer items we use – from plastic bags to makeup – still created using petroleum. And there are still more than 60,000 manufacturing processes that depend on petroleum, and even the most aggressive estimates suggest that it will take the world decades to shift away from them.

We’re in much the same situation when it comes to hybrid vehicles. There isn’t a mass-produced electric vehicle available today that could offset the coming rise in recovery-driven demand for oil and gasoline. There’s a strong effort underway, but I’m not aware of a single company ready to field the solution in cost-affordable quantities by 2010 – which is when most analysts say a recovering economy will stoke demand for oil.

Of course, U.S. President Barack Obama’s much-lauded efficiency and greenhouse-gas-standards mandate will help significantly, but that’s like bolting the barn door after the horses have run for the fields. The irony of watching auto executives “applaud” his press conference was almost too much to watch with a straight face. But that’s a story for another time.

The bottom line is this: Our society will be highly dependent on oil for many years to come and investors should plan accordingly.

If governments around the world really want to get serious, they could collectively work to eliminate the fuel subsidies that are part of the price paid for gasoline in Asia or sugarcane ethanol in Brazil. We could also stop our own energy pork barreling. But given the complete lack of transparency that surrounds this issue – not to mention the influence wielded by vested industry interests, and the scores of well-paid lobbyists that patrol the halls of power in our nation’s capital – I don’t think we’ll see any big changes anytime soon.

So I’m left with one inescapable conclusion, at least in the intermediate term. Every investor needs to have at least some sort of energy strategy – preferably one that includes a range of drillers, producers and suppliers to cover the spectrum from wellhead to consumer.

That way, we can profit from an increase in energy prices that we can only hope rise fast enough to jump-start the oil industry’s production arm but not so fast that it snuffs out the badly needed economic recovery.

Editor’s Note: Money Morning Investment Director Keith Fitz-Gerald is the editor of the new Geiger Index trading service. As the whipsaw trading patterns investors have endured this year have shown, the ongoing global financial crisis has changed the investment game forever. Uncertainty is now the norm and that new reality alone has created a whole set of new rules that will help determine who profits and who loses. Investors who ignore this “New Reality”will struggle, and will find their financial forays to be frustrating and unrewarding. But investors who embrace this change will not only survive – they will thrive. With the Geiger Index, Fitz-Gerald has already isolated these new rules and has unlocked the key to what he refers to as “Golden Age of Wealth Creation” The Geiger Index system allows Fitz-Gerald to predict the price movements of broad indexes, or of individual stocks, with a high degree of certainty. And it’s particularly well suited to the kind of market we’re all facing right now. Check out our latest report on these new rules, and on this new market environment.

Source: With Oil Prices Poised to Jump as Much as 70%, Every Investor Needs an Energy Strategy

This from Whisky & Gunpowder:

A lot of readers are twanging on me for refraining to castigate President-elect Obama for deeds yet undone. They’re discouraged by the advisors and cabinet secretaries he’s picked, ostensibly because the crew coming in are Washington “insiders,” meaning they can’t possibly see or do things differently.

My own starting point for this is the belief that in the years just ahead any sociopolitical entity organized at the giant scale will flounder — this includes everything from the federal government to global corporations to factory farms to centralized high schools to national retail chains. So even expecting Mr. Obama’s government to act effectively may be asking too much in a situation that will require mostly local action.

The meta-situation will be the overall decline of energy resources and the necessary downscaling of our activities. We are obviously in a transitional period between the old profligate energy economy and the new economy of relative scarcity. We have no idea how disorderly this transition will be, but there is certainly potential for tremendous instability in daily life.

For a while, perhaps, the federal government may retain some ability to affect the way things go, or give the appearance of doing so. This raises the issue of what Mr. Obama and his team really know about our energy predicament. The president-elect has made some noises — recently on the 60 Minutes show — that he understands something about the current price dislocations in the oil markets resulting from the larger financial turmoil. He alluded to the public’s erroneous notion that current low-ish oil prices mean the oil problem is over. But does the incoming president know some of the following details?

For instance, does Mr. O know that global oil production appears to have peaked at around 85 million barrels a day, with poor prospects of ever getting beyond that? This single naked fact has broad ramifications, above all whether we can continue to think in terms of industrial “growth” as the benchmark for economic health. There are many interpretations of the current financial fiasco. Some of them are based on long-term technical wave theories. A more down-to-earth view suggests the shock of peak oil — though it doesn’t exclude wave theories.

Does Mr. O know that world oil discovery has fallen to insignificant levels after peaking long ago in the 1960s. Does he know we are finding no more super-giant oil fields on the scale of Arabia’s Ghawar or Mexico’s Cantarell, which have supplied most of the world’s oil for the past forty years and are now running down? Does he know that you can’t produce oil that hasn’t been discovered? Does Mr. O know that virtually all the oil-producing nations have entered production decline. Surely someone has whispered in his ear about the IEA’s projection that global oil production would fall 9.1 percent in the coming year.

Does Mr. O know that oil exports have been trending to decline at a steeper rate than oil depletion? That is, the exporting nations are losing their ability to send oil to the importers (like us) at a rate mathematically greater than the run-down in their production. They are using more of their own oil even while their production is going down. For example, Mexico is depleting overall at more than nine percent a year (with the Cantarell field alone running down at more than 15 percent annually). Does he know Mexico’s net exports are crashing? Mexico has been our number three leading source of imports. In a very few years they will not be able to send us any oil. A deluded American public has no idea that this is happening. Will Mr. O explain it to them?

~~~~~~~~~~~~~~Special~~~~~~~~~~~~~~

Announcing Agora Financial’s First-Ever “One-Time Dividend”…

Tell Me Where To Mail Your $1,500 Check

I’ll FedEx your check to you on Feb. 16, 2009 — but you must act soon to qualify.

Details here…

~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~

Does Mr. O know that the “old major” oil companies (Exxon-Mobil -NYSE:XOM-, Texaco, Shell -NYSE:RDS.A / RDS.B-, et al) produce less than 10 percent of the world’s oil now — the other 90 percent coming from the foreign nationals — and that blaming them for the situation is a waste of time. The foreign national companies are changing the landscape of the oil markets. They’re making special contracts with “favored customers” rather than just putting their oil up for auction on the futures markets.

One thing you can infer from this is that we’re entering a period of national oil hoarding based on coming scarcity. The futures markets were based on relative abundance, and they will not operate very well in a climate of scarcity. Consider that the USA will probably not be among the “favored customers” for several oil producing nations. Figure that in with the coming loss of imports from Mexico (and Venezuela and Nigeria).

Does Mr. O know that the current drop in oil prices (due to massive financial deleveraging) has resulted in the cancellation or postponement of the very oil production projects that were hoped to offset the coming depletions? It’s not worth it for an oil enterprise (private or foreign) to drill in deepwater or venture into arctic regions when oil is priced at $50-a-barrel — if it costs $80 to get the stuff out of the ground.

It’s not worth digging up tar sands in Canada at that price. This halt in activity is going to boomerang back on the U.S. in a year or so, with depletions ongoing everywhere and no new oil to take its place. Does Mr. O know that we’re just as likely to see shortages as a resuming rise in oil prices here in the U.S. during his coming term?

Does Mr. O know that the current re-inflation program being run by the Treasury and the Federal Reserve is so egregious that it may lead to loss of the dollar’s legitimacy, to the renunciation of dollar holdings by other nations, to the down-rating of U.S. Treasury debt instruments, and finally to an inability of the U.S. to purchase foreign oil — which comprises two-thirds of all the oil we use every day?

Does Mr. O know that we are not going to run the U.S. automobile and truck fleet on any combination of alt.fuels? Continuing it by other means is a fantasy that will only disappoint us. The motoring era is coming to an end. Heroic investments in highway infrastructure to create jobs will be a tragic waste of our dwindling capital. The pressure for Mr. O to make these misinvestments will be enormous, perhaps insurmountable. There are probably not a thousand people in the U.S. who agree with what I am saying — meaning the consensus to keep the cars running at all costs overwhelms reality at the moment. Does Mr. O’s concept of “change” include the possibility that we may have to live very differently in this society?

~~~~~~~~~~~~~~Special~~~~~~~~~~~~~~

Agora Financial’s First-Ever “One-Time Dividend” — Available Only to NEW Members

Tell Me Where to Mail Your $1,500 Check

Two Conditions to the “One-Time Dividend”: You Must Act Before Midnight Jan. 1 to Qualify — and You Must Give Me Your Address, So I Know Where to FedEx Your Check

Full story and check-claiming instructions here.

~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~

Chances are, if Mr. O knows any of these things he might be crucified in the polls and the media by acknowledging them. The only “change” that America really wants to hear about is evicting George Bush from the White House. They’re sick of him and all the disturbance he has caused in their financial affairs.

But beyond that, the American public is deathly afraid of the kind of changes we actually face — such as, the end of consumer culture, the gross loss of value in suburban real estate (which forms the bulk of the middle class’s private wealth), the prospect of food and fuel scarcities, the need to re-localize our lives, the need to physically shape up to stop the costly and unnecessary drain on our medical resources, to grow more of our own food, to work harder at things that actually matter, and to save whatever we can for a difficult future.

If Mr. O introduces any of these themes into the national discourse, the public and the media and the bloggers will all dump on him for failing to prop up the wild party that American life became in recent decades.

Source: Does Mr. O Know?

The vomit approach continues at the Treasury. This time their throwing up historically low mortgages on the wall… just to see if they stick. The U.S. Treasury is considering a proposal to offer new mortgages at 4.5% through Fannie Mae (NYSE:FNM) and Freddie Mac (NYSE:FRE). That’s a point and a half lower than the silly “free market” says it should be.

Should this mortgage plan come to pass, we note that the U.S. government would be manipulating prices in almost every major market.

They are now the dominant force in commercial paper. They are propping Libor through the Fed’s multitrillion-dollar lending facilities. And through equity purchases in the TARP, they’ve inflated shares of nearly every bank engaged in the mortgage-backed security trade — the very stocks the market hates the most.

Maybe the Treasury should take a page from Franklin Roosevelt and just announce a closing price for the S&P 500 every day. FDR reportedly fixed the dollar price of gold every morning over breakfast… that is, until he tired of the practice in 1933 and just declared the yellow metal an illicit commodity, illegal for Americans to privately own.

“You can add the bond market to that list,” notes Dan Denning. “The Fed is systematically decimating the yield on U.S. government bonds and notes. It is blitzkrieging its way through the U.S. yield curve, buying, or threatening to buy, U.S. bonds and notes in order to lower rates.

“Don’t believe it? Bloomberg reports that the yield on 90-day Treasuries is 0.01%, while 10-year U.S. notes yield 2.66%. Both yields, as you can see on the chart below from the Dallas Fed, are down.

“By buying up securities with different maturities, the Fed lowers interest rates. Investors crowd in looking for safety and, of course, rising prices. But what is the Fed really up to? Is it really trying drive interest rates on government bonds so low that savers, and, more importantly, banks, begin to loan out some of their excess reserves, or, better yet, use them to buy distressed assets from each other.

“If you want to use a military metaphor, the Fed is dropping big rocks on safe houses from its EZ Money helicopter battleship. One basis point at a time, it is methodically destroying any rational reason for investment advisers to put their clients in Treasuries.

“So if you’re not going to be in ultra-safe Treasuries, because they are really no better than cash, then what will you do with your money? You have to do something with it. You will spend it. Or invest it.”

Thanks to the recent Treasury-assisted plunge in mortgage rates, mortgage applications soared 112% last week compared with the week before. According to the latest from the Mortgage Bankers Association, rates fell to an average 5.4% last week, about 50 bps lower than the week before.

Judging by news emanating from the Treasury, this trend is likely to continue.

Major indexes in the U.S. enjoyed a wild ride Wednesday. Despite all the dire economic data we reported yesterday, the Dow ended up with a nice gain of 172 points, or 2%. The S&P 500 and Nasdaq fared even better, up 2.5% and 3%, respectively.

Indexes were down, with about 1.5% losses, but then turned around after the Fed released its latest “Beige Book.” Traders must have seen something we didn’t… our eyes were drawn to statements like:

• “Overall economic activity weakened across all Federal Reserve districts”
• The manufacturing outlook is pessimistic, as activity “declined noticeably”
• “Retailers were preparing for a relatively slow holiday sales season”
• “District reports generally described labor market conditions as weakening.”

Perhaps this is a sign of a temporary bear market bottom… a Beige Book like this would send stocks to the woodshed in any other market.

Harvard’s endowment fund reported this week it lost 22% from July to end of October. That’s $8 billion down the drain. Only six other colleges in the U.S. have a total endowment greater than Harvard’s recent loss.

Harvard officials say the loss is likely higher, as the totals don’t include “hard-to-value assets” like real estate and private equity deals. The endowment also told The Wall Street Journal they are planning for 30% net losses by June 2009.

AT&T (NYSE:T), DuPont, Viacom (NYSE:VIA.B), Credit Suisse (NYSE:CS), Adobe (NASDAQ:ADBE) and Merck (NYSE:MRK) all announced deep job cuts this morning. Between the six companies, another 28,450 jobs will be shed.

Yet… three out of four men engaged in a friendly game of tennis this morning in Baltimore, Md., believe the “bottom is in” for stocks. Two of the men work for money management firms in town. Another is getting shellacked in the crabbing business. The fourth is an editor and publisher of financial newsletters. Guess who thinks we have another couple legs down?

One of the nation’s leading 401(k) stewards wants you to think the bottom is in, too. We received this nifty graphic from Fidelity this week. The subject line of the message was enthusiastically titled “U.S. Stocks Often Rebound During Recessions”

“Stocks are cheap,” bond king Bill Gross opined in his latest investment outlook, “when valued within the context of a financed-based economy once dominated by leverage, cheap financing and even lower corporate tax rates. That world, however, is in our past, not our future. More regulation, lower leverage, higher taxes and a lack of entrepreneurial testosterone are what we must get used to — that and a government checkbook that allows for healing, but crowds the private sector into an awkward and less-productive corner…

“We are now morphing toward a world where the government fist is being substituted for the invisible hand; where regulation trumps Wild West capitalism; and where corporate profits are no longer a function of leverage, cheap financing and the rather mindless ability to make a deal with other people’s money.”

What’s Gross buying? He’s quite biased in this regard, but we’ll still pass his advice along: “Better to own corporate bonds than corporate stocks.”

The dollar and gold have been relatively quiet over the last 24 hours. The dollar index remains at a lofty score of 79 today, while gold still goes for roughly $770 an ounce.

In the oil patch, light sweet crude remains at $46 a barrel, despite yesterday’s rally in equities.

“The oil company BP (NYSE:BP),” notes Byron King, “has booked the Eagle Vienna, a supertanker capable of storing around 2 million barrels of crude oil.

“BP intends to use the tanker to store North Sea oil at sea and to sail it to an anchorage in the Gulf of Mexico. In other words, BP appears to be wagering that it can get a higher price for oil by holding stocks, rather than selling now.

“BP’s action brings the total volume of booked storage to at least 12 million barrels controlled by oil firms and traders. This is about 15% of one day of world oil demand. By leasing tankers for storage, BP — along with Shell (NYSE:RDS.A / RDS.B) — is betting that the cost of hiring vessels at the current depressed rates will be less than the gains to be had from waiting for an eventual upturn in crude prices.”

“I believe that you are being cavalier,” writes a reader, “and much too harsh on the reader who suggested pegging a federal tax on gasoline to uphold a certain price level. This country does not plan, it only reacts. Look at the green projects canceled or on hold now due to the low price of oil. Even oil exploration and development projects are on hold.

“There is no way to stimulate free market alternative fuels research and production if the market price of gasoline sinks below a certain point. People respond to pain. Fuel economy is the result of pain in the pocketbook; and the capital of entrepreneurs goes where it is appreciated. Did no one learn anything from the ’70s oil crisis?

“I don’t expect that you would remember the 1970s because you probably were still pissing in a diaper at that point.”

The 5: Nice. At least in the ’70s they were still teaching civility to little kids. Although it would appear they must have skipped the generation before us.

“Thank you for your snarky responses,” writes in yet another, “to readers espousing the benefits of taxation and communism in today’s edition. We need to beat the apologists back with a stick and take back capitalism so that this country can truly thrive. Additional taxation and regulation, which is where we are heading, is not the answer. Long live free markets with unfettered risk and reward. And if you know where I can find such an economic utopia, let me know where it is!”

“Your response yesterday to a reader,” says the last, “was right on point — the same point was made many years ago by Einstein — but in a few less words: “The problems we face today cannot be solved by the minds that created them.”

“Reading comments from your readers,” writes another, “makes me wonder what the dissenting subscribers to your great services are looking for. The minute the status quo — increasing returns on the ‘market,’ housing bubble, easy credit, etc. — changes, they cry for more regulation. If I’ve learned anything in damn near 60 years on this orb, it’s the more a thing is regulated, the more it diminishes in functionality.

“In a totally ‘free market,’ if one will ever exist, surely, there will be charlatans, fakers and humbuggers trying to take advantage of the uninformed and witless. Hence, the rub. If we are more informed and keep our wits about us, the riff-raff will be less successful in the efforts to separate us from our hard-earned assets. At the risk of sounding like more esteemed members of your organization, I say, ‘Let the whole thing crash’ The survivors will be stronger and the system of trade, trust and communication that results might actually work, long term.

“Keep preaching the gospel of ‘Agorism.’ There are more of us acting in support of the gospel than you may realize.”

Hallelujah,

Addison Wiggin,
The 5 Min. Forecast

Source: Mortgage Manipulation, Bond Market Truth, Are Stocks Cheap? and More!